When Chuck Conaway took over as the chief executive of Kmart, he gave himself two years to resuscitate the discount retailer, get the right products on its shelves and make it competitive again with the new kings of general merchandising, Wal-Mart and Tar

Goal: Spend Money Wisely

There would be few questions of detail if Kmart over the past two decades had managed to keep pace with the competition in the technology of retailing.

Through a combination of business missteps and IT breakdowns, the company that managed to discard its five-and-dime store heritage and pretty much invent the large discount store format has been left in the dust by one prime competitor, and is about to be passed by another. Wal-Mart and now Target are outperforming Kmart and, not coincidentally, using industry-leading technology in the process.

As early as 1983, Wal-Mart spent two cents of each dollar of sales on getting goods to its stores. Kmart's costs were a nickel, according to "In Sam We Trust," a chronicle of the competition by former Wall Street Journal writer Bob Ortega.

"What this meant, of course, was that other costs aside, Wal-Mart could sell its goods for about 3% less than Kmart and still enjoy the same profit margin," Ortega writes.

Wal-Mart continued to press its advantage. In 1990, it eked by Kmart in size for the first time, $32.6 billion in sales for the year, versus $32.3 billion reported by Kmart at the time. Since then, Kmart has added just $4.7 billion in annual sales. Taking out inflation, Kmart has actually declined in size, to $27.6 billion, in constant 1990 dollars. Meanwhile, Wal-Mart, even allowing for inflation, has increased 4.5 times in size. By the calculation of theStreet.com, Kmart would need 21 years to earn what Wal-Mart earns in one quarter.

If Conaway hopes to revive Kmart through technology that improves the manner it which it stocks its shelves, his ability to juggle competing interests will be key. Because at the same time the company is reshaping how it gets goods into its stores, it is reshaping the stores.

Prudential Securities expects Conaway to bump Kmart's capital spending up by more than one-third, to $1.9 billion, by 2004 in order to convert stores to a larger format called the Super Center, which includes groceries.

After all, Wal-Mart is now the nation's largest grocery chain. "Look out 10 years from now; the discount stores we know will be a relic," says Prudential Securities analyst Wayne Hood.

Cash could be tight as Kmart tries to upgrade about 800 stores at the same time it's revamping its software. But this is a juggling act Kmart has dealt with before. "Kmart has always had a clash of what the IT guys knew they needed, and the spending of money in other parts of the business," says Hood, who nonetheless downgraded Kmart shares this summer on worries about its ability to fund from cash flow all the initiatives it needs to pursue. "There is the potential now to get into some risk of spending in the wrong place."

Making the necessary investments is not easy for a public company, especially if you're reporting losses, says Jim Dion, president of Dionco, a retail consulting firm in Chicago. "Wall Street today really does control a tremendous amount of what you are capable of doing or are allowed to do. Decisions, rather than being made for the long-term health and growth of the company, are made for the very short term."

Particularly in its early days, Wal-Mart was able to maintain a long-term focus on driving high volume through a low-margin but operationally efficient business.

So it made continual investments in its distribution network and pioneered the use of technologies such as Universal Pricing Code scanning among non-grocery retailers. Because the family of founder Sam Walton held a large share of the company, Wal-Mart would spend the money even when it cut into the profits it could report. Only Walton had to be convinced it made long-term sense. "Kmart doesn't have that luxury," Dion says.

Kmart has few technological luxuries to enjoy. It has tried various ways of spurring interest in its BlueLight.com Web site. But in July, it became the only believer, buying back the minority interests of Softbank Venture Capital, Martha Stewart Living Omnimedia and Internet portal Yahoo. Kmart paid $15 million in cash and 6 million shares of stock for the privilege and took a charge of $100 million.

In return, Conaway says Kmart has been able to cut operating expenses by about 25%, by outsourcing the site's technical operations and order fulfillment.

However, integrating BlueLight.com into its stores has been difficult. Taking orders from kiosks has had little impact on sales.

At some stores, like a Kmart in Manhattan that Baseline visited, the kiosks have been turned off; at other locations they're running, but only able to access a small subset of the custom Web site with which they were designed to work.

An electronics department manager at a Super Kmart in the Midwest says the kiosks for a time had been fairly popular. If customers couldn't find something on the shelf, he'd encourage them to check the online store. Sometimes, they'd wind up ordering other items, such as flowers.

But now he doesn't know what to tell customers who ask about the device, which now will only display a "Store Locator/Pharmacy Refill" screen.

Joseph Chang, who was formerly director of Web development at BlueLight.com, says the kiosks were responsible for a single-digit boost in sales for the Web commerce operation, but did fall short in terms of integration with store operations.

Ideally, he would have liked to produce a Web application linked not only to the inventory of the dot-com store but also to the inventory of the store where the kiosk user was standing. Then you could have had a kiosk that could not only tell you that an item was available online but also that it was available two aisles over.

"That would be an extremely useful device, and we had pretty good people at BlueLight who wanted to achieve these goals," Chang says. "The supply chain management wasn't tight enough to give us" that capability.

Ed Cone has worked as a contributing editor at Wired, a staff writer at Forbes, a senior writer for Ziff Davis with Baseline and Interactive Week, and as a freelancer based in Paris and then North Carolina for a wide variety of magazines and papers including the International Herald Tribune, Texas Monthly, and Playboy. He writes an opinion column in his hometown paper, the Greensboro News & Record, and publishes the semi-popular EdCone.com weblog. He lives in North Carolina with his wife, Lisa, two kids, and a dog.